Sri Lanka holds rates, state credit picks up

ECONOMYNEXT – Sri Lanka’s Central Bank kept policy rates unchanged, saying private credit has started to slow in September but money supply growth picked up due to government borrowing.

In its November monetary policy announcement, the Central Bank said it was keeping the rate at which money is printed overnight at 8.50 percent and the excess cash is withdrawn at 9.00 percent.

In September, 12-month private credit growth fell to 25.6 percent, down from 27.3 percent in August. But broad money supply grew at a faster 18.4 percent pace, from 17.4 percent due to larger state borrowings.

In November, consumer prices will pick up due to turnover-based taxes, but lower deficits in the future can help keep inflation in check, the Central Bank said.

"Aggregate demand pressures are expected to remain well contained, supported by pre-emptive monetary policy measures, coupled with the continuation of the envisaged fiscal consolidation process, and as a result, inflation is expected to remain stable in mid-single digit level in the period ahead," the Central Bank said.

But the Central Bank began to effectively ease policy in November by outright purchase of Treasury bills from the banking system to sterilise interventions, injecting printed money for two months at a little over 9.00 percent.

Banks can lend the newly created money, driving up aggregate demand and imports over and above net forex inflows coming into the country.

This, in turn, will require more forex reserve sales to hold the rates or a depreciation of the currency to cut real wages of the domestic population and make them poorer or less affluent.

Until November, the Central Bank had been sterilising intervention in the forex market with overnight liquidity, which was a comparatively ‘tighter’ policy.

Because Sri Lanka has a pegged exchange rate, where the Central Bank sells dollars to maintain an exchange rate, liquidity is either withdrawn or injected through sales and purchases of dollars, as well as through sales and purchases of domestic securities.

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Analysts say the issue is the primary problem with all so-called, soft-pegged central banks, which suffer balance of payments trouble and run to the International Monetary Fund from time to time. Such countries will continue to do so, until monetary policy is fundamentally overhauled, they say.

Analysts say in countries like Indonesia, which also has loose policy like Sri Lanka, high inflation and currency troubles, is present despite budget deficits lower than 3.0 percent of its gross domestic product.
(Colombo/Nov29/2016 – Update I)

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